Chapter 9

Question 1

Accumulation Period

Answer 1

The Accumulation Period is when the premiums an annuitant pays into annuities are credited as accumulation units. The accumulation period may continue between the time after premiums have ceased, but the payout has not yet begun. At the end of the accumulation period, accumulation units are converted to annuity units.

Question 2

Annuity Period

Answer 2

The annuity period, also known as annuitization, begins when the contract owner surrenders control of the funds in the contract in exchange for a guaranteed stream of monthly income from the insurer.

Question 3

Accumulation Units

Answer 3

Accumulation Units make up the value of contributions made by the annuitant less a deduction for expenses. The value of each accumulation unit is a credit to the individual’s account and varies depending on the value of the underlying stock investment.

Question 4

Annuity Unit

Answer 4

Annuity Units are converted into accumulation units once variable annuity benefits are paid out to the annuitant. The annuity unit calculation is made at the time of the initial payout. From then on, the number of annuity units remains the same for that annuitant

Question 5

What is the difference between annuity units and accumulation units?

Answer 5

In the context of an annuity, “accumulation units” represent the value of your investment during the period when you are contributing money to the annuity (accumulation phase), while “annuity units” represent the value of your investment once you start receiving payouts, meaning when the annuity enters the payout phase; essentially, accumulation units are converted into annuity units when you begin withdrawing money from the annuity.

Question 6

Cash Refund Option

Answer 6

A cash refund annuity returns any sum left over to a beneficiary should the person who purchased the annuity—called the annuitant—die before breaking even on what they paid in premiums. Such a provision is typically included as a rider on a life annuity (also known as a “pure life annuity” or “straight life annuity”).

If an annuity is purchased for $50,000 and the annuitant dies after receiving $40,000 in payments, the beneficiary would receive a $10,000 payment.

Question 7

Deferred Annuity

Answer 7

A deferred annuity is a binding contract with an insurance company to help your money grow tax-free for a period of time, then convert it into a series of smaller, guaranteed income payments.

Many deferred annuities are structured to provide income for the rest of the owner’s life and sometimes for their spouse’s life as well.

Question 8

Equity Indexed Annuity

Answer 8

Equity-indexed annuities are fixed-deferred annuities that offer the traditional guaranteed minimum interest rate and an excess interest feature based on the performance of an external equities market index.

Question 9

Exclusion ratio in Annuity

Answer 9

The exclusion ratio is a metric that determines the percentage of an annuity payment that is not taxed. It calculates how much of an annuity’s income is subject to taxes when an individual begins receiving periodic payments in retirement.

For example, if $100,000 is invested into an annuity, the expected return each year is $7,500 and the life expectancy is 20 years. The total expected return is $150,000 ($7,500 x 20) and, therefore, the exclusion ratio is 66.66% or rounded up to 67% ($100,000 ÷ $150,000). Since the payment each year is $7,500, 67% of that amount ($5,025 in this case) is excluded from taxes and the remaining $2,475 ($7,500 – $5,025) is taxable.

Question 10

Fixed Annuity

Answer 10

Fixed annuities provide a guaranteed rate of return. The insurer declares the interest payable for any given year in advance and guarantees it will be at least the minimum specified in the contract. With fixed annuities, the insurer bears the investment risk.

Question 11

Immediate Annuity

Answer 11

An immediate annuity is a financial product that converts a lump sum of money into a guaranteed income stream for a set period of time or for your lifetime.

Question 12

Joint life and survivor option

Answer 12

A Joint and full survivor option provides for payment of the annuity to two people. If either person dies, the same income payments continue to the survivor for life. When the surviving annuitant dies, no further payments are made to anyone. A full survivor option pays the same benefit amount to the survivor. A two-thirds survivor option pays two-thirds of the original joint benefit. A one-half survivor option pays one-half of the original joint benefit.

Question 13

Life with Period Certain Annuity

Answer 13

A Life with Period Certain or life income with a term-certain option is designed to pay the annuitant an income for life but guarantees a definite minimum period of payments.

Question 14

Are annuities qualified for tax?

Answer 14

Non-qualified annuities are funded with after-tax dollars, and while income and growth are tax-deferred, premiums are not tax-deductible. These annuities, purchased outside of qualified pension plans, do not offer tax-favored treatment on contributions.

** Qualified annuities ** are part of tax-qualified retirement plans, where premiums may be tax-deductible if an employer contributes. Employees can also fund these plans through salary reduction, using pre-tax dollars, which lowers taxable income. The growth (interest earned) is tax-deferred in both annuities.

Question 15

What is the most important reason for investing in Annuities.?

Answer 15

The most important reason for purchasing an annuity is to provide income at retirement. As examined later, an annuity protects an individual against outliving her income. Only a life insurer can guarantee income for the life of an annuitant.

Question 16

Annuity Premium

Answer 16

Annuities have mortality tables that differ from those used for life insurance. Items considered include the interest rate paid, the amount of total contributions or accumulations, and the selected settlement option.

Question 17

Single Premium Annuity

Answer 17

Single premium annuities are funded entirely by a one-time lump-sum payment. The annuitant can start receiving monthly income payments immediately (within 30 days of the single premium) or at a later date (i.e., deferred). When the annuity is funded with a single, lump-sum payment, the principal is created immediately.

Question 18

PERIODIC PREMIUM ANNUITIES

Answer 18

Periodic premium annuities involve making multiple premium payments over a specific period of time. These annuities can be classified into two types: level premium and flexible premium.

**level premium annuity **requires making consistent annual payments to fund the annuity. For instance, a 35-year-old might purchase a level premium annuity with an annual premium of $1,200, paying this amount each year until reaching retirement at age 65. At that point, the individual will start receiving monthly income payments. This type of annuity is also known as an annual premium annuity.

On the other hand, a **flexible premium annuity **involves making periodic premiums of varying amounts each year. The contract owner can contribute an amount that suits their financial situation each year until they decide to start receiving income after retirement. As long as a minimum payment is made, the contract owner has the flexibility to choose the amount they can afford to contribute each year. The future income benefit will be based on the total amount of funds saved when the plan is annuitized (i.e., when income payments commence).

Question 19

IMMEDIATE ANNUITY

Answer 19

A single premium immediate annuity provides income soon after purchase, with payments typically starting 30 days after funding. The insurer requires a lump-sum premium, meaning there’s no accumulation period. Payments to the annuitant include both principal and interest, and must start within 12 months of the contract date. The duration of payments depends on the amount contributed and the distribution option selected. Longer payment periods or guaranteed features reduce the amount of each installment. Payments can be fixed or variable, making this annuity ideal for individuals needing immediate income, such as those who are disabled or retiring.

Question 20

DEFERRED ANNUITY

Answer 20

A deferred annuity allows for flexible or single premium payments and includes an accumulation period before income payments begin. It is ideal for individuals wanting to defer income until the future, such as for retirement. Contributions grow over time with tax-deferred interest. When the owner is ready to access the funds, they can choose between a lump-sum distribution (with taxable interest), systematic withdrawals, or converting to an income stream. Deferred annuities focus on principal safety, asset growth, and tax deferral of interest.

Question 21

FIXED ANNUITIES

Answer 21

A fixed annuity guarantees a predetermined monthly income or benefit for the annuitant’s lifetime, ensuring consistent payments regardless of market conditions. Funded through the insurer’s general account, fixed annuities offer both an interest rate guarantee and principal safety, provided the insurer remains solvent. As a conservative investment compared to variable annuities, fixed annuities place the investment risk on the insurance company, which invests in secure, low-risk assets to uphold the guaranteed payments. While the fixed income provides stability, it may lose purchasing power over time due to inflation. Additionally, fixed annuities can include a guaranteed refund to beneficiaries if a specific period is selected. These guarantees are made possible because the premiums are held within the insurer’s general account, part of their overall investment portfolio.

Question 22

VARIABLE ANNUITIES

Answer 22

A variable annuity allows the contract owner to invest premiums in two types of accounts: the insurer’s general account (with guaranteed returns) and a separate account (invested in equities, bonds, and other vehicles). The separate account offers the potential for higher returns but does not guarantee them, and the contract holder bears the investment risk. Unlike the general account, the separate account is segregated from the insurer’s assets, meaning it’s protected from the insurer’s creditors in case of insolvency.

A(n) variable annuity pays benefits based on units rather than stated dollar amounts. In a variable annuity, the payments you receive are tied to the performance of the underlying investments in the annuity.

Question 23

SUBACCOUNTS

Answer 23

For variable annuities, the separate accounts typically contain a variety of different underlying portfolios or subaccounts (which are similar to the mutual fund choices that investment companies offer to their investors). The contract owners are able to allocate their payments among these different subaccounts based on their investment objectives. Additionally, contract owners are generally allowed to transfer their money from one subaccount to another as their investment goals change.

Question 24

STRAIGHT LIFE ANNUITY

Answer 24

This contingency option, also known as a pure life annuity or “life” annuity, is categorized based on the period during which the annuitant will receive income. If a straight life settlement option is chosen, the recipient will receive payments for their life with no refund paid to any beneficiary upon their death. This option exposes the annuitant to the most significant amount of risk since there’s no survivorship (i.e., no refund), but it also provides the annuitant with the highest payout of all options. The purpose of a straight life annuity is to prevent an annuitant from outliving their income.

Question 25

ANNUITY (PERIOD) CERTAIN

Answer 25

An annuity or period certain is a description of income or installments for a fixed period as decided upon by the owner. This means that the monthly income will be paid for a specified period only (i.e., not for life). Payments will cease after the specified period, even if the annuitant is still alive. However, if the annuitant dies prior to the end of that period, payments continue to the designated beneficiary for the remainder of the specified period.

Question 26

STRAIGHT LIFE ANNUITY WITH PERIOD CERTAIN

Answer 26

A life annuity with a period certain pays a guaranteed minimum benefit (i.e., income) for the annuitant's life or for a specified period, whichever is longer. This means that the contract will pay a survivor benefit if the annuitant dies before the end of the period certain (e.g., 10 years). In other words, the annuitant or survivors are entitled to a guaranteed income for at least a specified number of years.

Question 27

LIFE WITH REFUND OPTION

Answer 27

A **life with refund annuity** guarantees that the original premium (principal) paid into the contract will be returned, even if the annuitant dies before the full amount is distributed. If the annuitant dies early, the beneficiary receives the remaining principal. Due to this guarantee, premiums for refund annuities are typically higher. There are two refund options: - **Installment Refund Option**: The beneficiary continues to receive the same monthly payments until the remaining principal is fully paid. - **Cash Refund Option**: The remaining principal is paid to the beneficiary in a single lump sum.

Question 28

INDIVIDUAL OR SINGLE LIFE ANNUITY

Answer 28

An individual or single life annuity is the most common form of an annuity. It is are pure life annuity, covering one life, with no survivorship (beneficiary). It provides income to the recipient, once it commences, for life with no refund paid to the annuitant's family upon his or her death.

Question 29

JOINT LIFE ANNUITY

Answer 29

A joint life annuity is a type of multiple life contract that's designed to pay benefits to two or more annuitants at the same time. However, all benefits will end once the first annuitant dies. In this manner, it's similar to a joint life insurance policy.

Question 30

JOINT LIFE AND SURVIVOR ANNUITY

Answer 30

A joint and survivor annuity is another form of a multiple life contract. With this type of annuity, the benefits are paid throughout the lifetime of one or more annuitants. Therefore, payments continue until the last annuitant dies. In other words, joint and survivor annuities guarantees income payments for the duration of two lives.

Question 31

SURRENDER CHARGES

Answer 31

Surrender charges—also referred to as back-end loads—are assessed if the contract owner cancels an annuity. A surrender charge (i.e., penalty) is assessed whenever a cash withdrawal is made more than a specified percentage (e.g., 10%) in any policy year. The surrender charges are subtracted from the annuity value if the total annuity is surrendered. However, no surrender charge is assessed for any withdrawals of less than the specified percentage.

Question 32

NON-FORFEITURE VALUES

Answer 32

Nonforfeiture values are the minimum benefits that an annuity policyholder is entitled to keep if they stop making payments or surrender their policy. These values are designed to protect policyholders financially and provide flexibility.

Question 34

FLEXIBLE PREMIUM DEFERRED ANNUITY (FPDA)

Answer 34

A flexible premium deferred annuity is an annuity that you pay into incrementally over time and that you defer receiving payments until later.

Question 35

LONG-TERM CARE RIDERS

Answer 35

Long-term care riders may be attached to an annuity or a life insurance policy and they allow for the payment of a percentage of the death benefit if an individual requires long-term care but is not terminally ill.

Question 36

GUARANTEED MINIMUM WITHDRAWAL BENEFIT (GMWB)

Answer 36

During market downturns, the annuitant can withdraw a maximum percentage of his entire investment in the annuity. Annual maximum percentages that are available for withdrawal vary with contracts, but are generally between 5% and 10% of the initial investment amount until the depletion of the total initial investment is reached. During the withdrawal period, the annuitant may continue to receive income.

Question 37

GUARANTEED MINIMUM INCOME BENEFIT (GMIB)

Answer 37

This feature guarantees a fixed income after annuitization, regardless of investment performance. The income amount is the greater of the account value applied to current annuity rates or the GMIB benefit base, which is calculated from net premiums compounded at a fixed rate. The benefit is triggered upon annuitization, independent of any fees paid by the owner.

Question 38

Equity-indexed annuities

Answer 38

An equity-indexed annuity (EIA) is a long-term investment contract that combines a guaranteed minimum interest rate with a variable interest rate linked to a market index. EIAs are a type of fixed annuity that offers more risk and potential return than a fixed annuity but less than a variable annuity.

Question 39

Uses of Annuity

Answer 39

An annuity is a type of insurance contract that may be used for any reason, with cash accumulation as the goal, but it's primarily used to provide income at retirement. **INDIVIDUAL USES** Again, an annuity is an insurance product offering tax-deferred growth to the annuitant. Contract owners may elect to receive a lump-sum payout (i.e., settlement) when the annuity phase begins. However, receiving a lump-sum settlement can lead to significant tax liability for the recipient. **QUALIFIED ANNUITY PLANS** Annuities may be used to fund qualified retirement plans on either an individual or group basis. In some cases, the plans receive tax deferral and tax deductions. Such plans include Keogh plans, simplified employee pensions (SEPs), 401(k) plans, pension plans, and profit-sharing plans. Pension and profit-sharing plans may be established as either defined contribution or defined benefit.

Question 40

A tax-sheltered annuity (TSA)

Answer 40

A tax-sheltered annuity (TSA) is a special type of annuity plan that's reserved for non-profit organizations and their employees. Such a plan is also referred to as a 403(b) plan or 501(c)(3) plan because it was made possible by those sections of the IRS tax code. For many years, the federal government, through its tax laws, has encouraged specified non-profit charitable, educational, and religious organizations to set aside funds for their employees' retirement.

Question 41

STRUCTURED SETTLEMENTS

Answer 41

Annuities are also used to distribute funds from the settlement of lawsuits or the winnings of lotteries and other contests. Such arrangements are referred to as structured settlements. Court settlements of lawsuits often require the payment of large sums of money throughout the rest of the life of the injured party. Annuities are perfect for these settlements because they can be tailored to meet the claimant's needs. Annuities are also suited for distributing the large awards that people win in state lotteries. These awards are often paid out for several years, usually 10 or 20 years.

Question 42

Early Withdrawal

Answer 42

Deferred annuities accumulate interest on a tax-deferred basis, meaning no taxes are owed during the accumulation phase, but taxes apply when benefits are paid out. Early withdrawals and loans are subject to penalties and taxes to discourage short-term use. Withdrawn amounts are taxed on a Last-In, First-Out (LIFO) basis, where interest is taxed first, except for annuities purchased before August 14, 1982, which are taxed on a First-In, First-Out (FIFO) basis, where the premium paid is taxed first. Federal age-based tax penalties do not apply to these taxes.

Question 43

which type of annuity pays benefits based on units

Answer 43

A(n) variable annuity pays benefits based on units rather than stated dollar amounts. In a variable annuity, the payments you receive are tied to the performance of the underlying investments in the annuity.

Question 44

If someone buys a straight life annuity, receives payment for two years, and then dies. Will his beneficiary will receive the payment or any lump sum amount?

Answer 44

No